Personal finance, a growing industry
Consider this scenario:
Your kitchen is falling apart and it will cost $50,000 to gut the entire kitchen, fix the water-damaged foundation, re-wire electrical and replace the old water heater. Most credit cards max out between $5,000 - $15,000 with interest rates between 25% - 30% - so you’re considering other options. You’ve also put off this renovation for half a decade now and during that time, life has continued to go on – you bought a new car, had a second child or have decided to go back to school – and the kitchen plans have stayed on the low-priority list until last week when you started to feel the floor become mushy as the foundation has continued rot from years of gradual water damage.
How do you fix it?
This is an example of when a personal loan may make sense to take out. Personal loans are unsecured loans that many people are taking advantage of in today’s low-interest rate environment. In the past, unsecured loans were the only alternative to borrowers with no credit or poor credit. But today, unsecured loans have become more attractive in part due to the fintech revolution that’s streamlining borrowing and lending and as a viable alternative to expensive low-limit credit cards.
In this article, we're going to look at the facts surrounding the unsecured loan industry as well as some things to look out for in order to get the most out of them.
What is an Unsecured Loan?
Unsecured loans is a type of consumer debt provided to individuals without any collateral being required by the lender. Compare this to a collateralized loan, like an auto loan that is backed by a physical asset, the car, an unsecured loan carries more risk for the lender as the lender will have minimal recourse to become whole in the event of a borrower default.
Unsecured Loans have the highest interest rates of all types of loans; however, they provide borrowers the opportunity to access capital that was not previously available in many cases.
2021 Personal Loans Industry
Today, changes in the technology and financial theory have led to access to new data points that allows financial institutions to underwrite new unsecured loans faster, cheaper, and more profitably (source). This can be seen in the data from TransUnion where at the end of 2020, outstanding unsecured personal loans totaled $151 billion, up over 200% since 2021 from $49 billion.
Similarly, fintech lenders are today’s leaders in the unsecured lending space owning 39% of the market share in 2019, from only entering the scene in the early 2010s. While banks, credit unions, and other traditional finance companies make up between 15% - 25%.
Why are People Leaning Towards Unsecured Loans?
Though unsecured loans have originally attracted high-risk borrowers, the growth in loans have been in the near-prime, prime, and prime plus categories of credit worthiness. Data from fintech lenders from 2015 to 2019 shows significant decrease in subprime borrowers from 30% to 6%, respectively. So, what’s causing this trend?
Low rates for unsecured personal have continued to appeal to moderate-risk borrowers. On average, credit cards rates hover around the high 10% up to high 20% range. In contrast, personal loans are averaging sub 10%.
Additionally, personal loans can be used for practically any expenses. From major life events like weddings and vacations to life emergencies like accidents or health problems. This flexibility is a major draw for borrowers.
The ease and flexibility with which qualified borrowers can obtain a loan at reasonable rates are the driving forces in the growth and expected growth in the personal loan industry.
Are People Paying Back their Loans?
Debt continues to be a problem in the US. At the end of 2020, consumer debt reached almost $15 trillion (source). However, when it comes to personal loans, delinquency rates totaled just below 3% (60 days or more past due) (source). And serious delinquency rates (90 days or more past due) are well below 1%.
In 2022, interest rates are expected to increase to curb inflation. This may lead to reduction in consumer appetite for personal loans as rates increase. But the data shows that the narrative for unsecured personal loans has shifted where consumers today are viewing it as a viable alternative to credit cards and other consumer debt products.